Monday, April 15, 2013

Canam: Sold

One of the longest-standing members of the Stock Ideas page is Canadian manufacturer Canam Group. Today, Canam trades near multi-year highs, and so I've sold out of my position.

Though I didn't lose money in Canam, I didn't make much either. But I sold because it has become increasingly difficult to value. And if I can't value it, I can't be sure that I'm owning it at a discount to what it's worth. A few events over the past few years made it increasingly difficult to value.

First, the company's debt has ballooned. As the company has high fixed costs, downturns can have dramatic effects on the bottom line. Canam has had to plug this gap by increasing debt from just $68 million in 2009 to $250 million today. Along with increasing risk, large amounts of debt also increase uncertainty of net worth: a small change in asset values makes for a pronounced change in equity values when leverage is involved.

The company also went on a bit of a buying binge, picking up some troubled US assets. In effect, this makes Canam difficult to value on a historical basis, as significant new assets with their own margin and return expectations were added to the company.

As the downturn picked up steam for a while, Canam also took on a number of competitively priced (i.e. money-losing) jobs just to keep the lights on. But it didn't tell investors it was doing this until after the losses came to light. Now how are we supposed to trust the reliability of backlog and other forward-looking numbers? Are backlog numbers reasonable only because management is goosing revenue by bidding below market, or are they reasonable for the right reasons? Having been kicked once, how is an investor to know?

Finally, Canam has undergone a CEO change, in replacing a guy that was at the helm for many years. Add this change to the many discussed above, and one is left with a situation where there is absolutely no predictability in how the company will perform.

Canam is up almost 20% since I first wrote about it in 2009. I'm torn about whether it belongs on the Value In Action page or the Value Fail page. While the stock is up, it has been almost four years, and therefore its returns certainly wouldn't be meeting its ex-ante hurdle rate. But at the same time it somehow didn't violate the first two rules of value investing despite an eventful four years. What do you think; in which category does Canam belong? Disclosure: No position

5 comments:

Adam @ Property Franchise said...

Definitely value in action from my point of view.

juan said...

I would either put it in "Value in Action" or would start a new category where I'd put the investments that get mediocre relative returns.

Perhaps "Value Fail" should be reserved for investments where you lost money in absolute terms.

alternative investment said...

If it has these issues around how to properly value it, how could it be within the value in action category?

Student said...

You could judge them based on absolute loss, relative loss, flawed process. Not sure what criteria you use to put investments in the two categories. It would make economic sense to compare it to the best alternative use of the capital locked up in the investment. It also makes sense to check if your thinking and facts were right when you made the investment.

The former judges the investment and is the better criterion for separating between "Value in Action" and "Value Fail." The latter is judging yourself. Good process doesn't guarantee good investments - just minimizes the risk.

Anonymous said...

Good take on Canam. I recently sold a position that I initiated in 2008 for similar reasons, especially the quality of company management.

The forward-looking fundamentals do not look good.

Underlying all infrastructure companies is the yet-to-be resolved issue of government indebtedness and how this will affect future spending.

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